Accordingly, Pfau and Murguía suggest advisors and clients first need to decide on a retirement income strategy, and only then consider a (risk-tolerance-appropriate) asset allocation in retirement.
Potential retirement income approaches include:
- total return (drawing from a diversified investment portfolio)
- protected income (using guaranteed lifetime income products to build a floor for essential expenses)
- risk wrap (blending investment growth potential with lifetime income benefits), and
- time segmentation (earmarking assets for spending immediately, soon, and later).
Once a strategy is selected, Pfau and Murguía propose a tool that uses two scales to determine the client’s risk tolerance in the decumulation period: probability-based income sources (e.g., from market growth) versus safety-first income sources (e.g., from contractual obligations), and optionality (degree of flexibility) versus commitment (adherence to a single solution) with respect to how much a client is willing to change their approach in response to economic or personal developments.
The results of this exercise can then be used to select appropriate investment products to meet the client’s needs. The key point is that selecting an appropriate allocation of assets in retirement isn’t just a function of the retiree’s tolerance for market volatility… instead, it starts with their preferences for even taking a risk-based investment (versus a more guaranteed-income) approach in the first place, and how much spending flexibility they have (or want or need) along the way!